Questions and Answers of Corporate Finance 5th Edition

McLemore Industries has a zero coupon bond issue that matures in 2 years with a face value of £30,000. The current value of the company’s assets is £13,000, and the standard deviation of the
Strudler Property plc, a construction firm financed by both debt and equity, is undertaking a new project. If the project is successful, the value of the firm in one year will be £500 million but if
A developer has just acquired 60 acres of property in Ngorongoro to develop a safari wildlife centre. The safari centre will also include a hotel development. In order to generate operating capital,
What are the two options that many businesses have? Why does a traditional NPV analysis tend to underestimate the value of an investment opportunity? Explain.
Given that anything is possible in the future, why can’t an entrepreneur who is seeking funding choose assumptions that make a start-up look good when it isn’t? Is this more a danger with real
Why is the binomial model more appropriate for real option analysis than Black–Scholes?
Do you think that executive stock options motivate executives to act in the best interests of the company? Explain.
The stock price of ABC plc is currently at £30, and the company has 2 million shares outstanding. The company’s CEO exercises 200,000 stock options with a strike price of £20. What will happen to
Your company owns a vacant plot in a suburban area. What is the advantage of waiting to develop the plot?
Ventiora SpA has a disused warehouse it is holding till land prices increase before selling to potential buyers. In option terminology, what type of option(s) does the company have on the warehouse?
Most companies use traditional capital budgeting techniques, such as payback period and net present value. Why do you think this is the case?How would you justify the use of real option methodology
Kevin Swinson is the finance director of Mountainbrook Trading plc. The board of directors has just granted Mr Swinson 30,000 at-the-money European call options on the company’s equity, which is
Joseph-Benoit Suvee has just been named the new chief executive officer of BluBell Fitness NV. In addition to an annual salary of €400,000, his 3-year contract states that his compensation will
Gasworks AG has been approached to sell up to 5 million litres of gasoline in 3 months at a price of €1.85 per litre. Gasoline is currently selling on the wholesale market at €1.65 per litre and
Webber plc is an international conglomerate with a real estate division that owns the right to erect an office building on a parcel of land in the outskirts of Leeds over the next year. This building
Eurocargoair is a British private air courier firm that has been given the option to purchase three new small jets at the price of £3 million per plane. The purchase agreement is only valid for the
Jet Black is an international conglomerate with a petroleum division and is currently competing in an auction to win the right to drill for crude oil on a large piece of land in one year. The current
Sardano and Sons is a large, publicly held company that is considering leasing a warehouse. One of the company’s divisions specializes in manufacturing steel and this particular warehouse is the
Mouillez Pour L’été SA (MPLE) manufactures filters for swimming pools.The company is deciding whether to implement a new technology in its pool filters. One year from now the company will know
There is an American put option on an equity that expires in 2 months. The share price is €13.20, and the standard deviation of the share price returns is 35 per cent. The option has a strike price
You are in discussions to purchase an option on an office building with a strike price of £47 million. The building is currently valued at £45 million. The option will allow you to purchase the
Fan and Zhu (2010) propose a real options framework to value oil exploration projects in the presence of three sources of uncertainty: the overseas investment environment, the exchange rate and the
In today’s global economic environment, many firms have chosen to downsize operations and share services or facilities with another firm. An example is the joint venture by Fiat and Chrysler to
In the electricity industry, interconnectors give the owner the option to transmit electricity to one of two locations. Show, using your own example, how real option analysis can be used to value an
You have recently been employed as a finance consultant to a growing company, R&D Industries, which consistently develops successful products. After a meeting with the company’s management, you
1 Your firm is considering a bid for a financially distressed football firm that is in administration. The administrators have said you must pay an exclusivity fee of £500,000 to develop the bid
As a new university graduate, you have taken a management position with Exotic Cuisines plc, a restaurant chain that just went public last year. The company’s restaurants specialize in exotic main
What are warrants? Why are warrants sometime referred to as equity kickers?What does this mean?
What is the primary difference between a warrant and a traded call option? Why is the dilution factor important in warrant pricing?
What are the advantages and disadvantages of issuing warrants?
What is a convertible bond? What are the key features of such a security?
Reasons for Issuing Warrants and Convertibles Why do firms issue convertibles? What impact do convertibles have on firms with target debt to equity ratios? Discuss convertible bonds in the context of
Convertible Bonds Why might an investor buy a convertible security?
Why will convertible bonds not be voluntarily converted to equity before expiration? When and why should a firm force conversion of convertibles?
Explain the following limits on the prices of warrants:(a) If the share price is below the exercise price of the warrant, the lower bound on the price of a warrant is zero.(b) If the share price is
Assume that Barclays plc has just issued a callable convertible bond. You are concerned that the share price of Barclays is going to become more volatile over the next year. Should you buy the bond?
Using the same bond as in Question 9, assume that you believe interest rates are going to increase. What do you think will happen to the value of the bond?What if the bond was a putable convertible
You are employed as a finance consultant to a company which has undergone severe financial distress over the last number of years. Lacking in internal financing resources, the company tells you that
Read the paper ‘The Role of Convertible Bonds in Alleviating Contracting Costs’ in the Quarterly Review of Economics and Finance by Krishnaswami and Yaman (2008). What are the authors’ main
A warrant with 5 months until expiration entitles its owner to buy 100 shares of the issuing firm’s equity for an exercise price of €23 per share. If the current market price of the equity is
Why do you think executives believe the risk synergy rationale for issuing convertibles and not the other explanations? Explain.
A convertible bond with a face value of €1,000 has a conversion ratio of 16.4. What is the conversion price?
A convertible bond with a face value of SKr10,000 has a conversion price of SKr356. What is the conversion ratio of the bond?
A convertible bond has a conversion ratio of 100. If the shares are currently priced at £9.20, what is the conversion value of the bond?
Citic Securities recently issued bonds with a face value of 100,000 renminbi and conversion ratio of 420. If the share price at the bond issue was 124 renminbi, what was the conversion premium?
Hannon Home Products recently issued £43,000,000 worth of 8 per cent convertible debentures. Each convertible bond has a face value of £100,000. Each convertible bond can be converted into 2,425
A warrant gives its owner the right to purchase three shares of equity at an exercise price of 32 Swedish krona per share. The current market price of the equity is 39 Swedish krona. What is the
Tvep plc issued convertible bonds with a conversion price of£20. The bonds are available for immediate conversion. The current price of the company’s equity is £18 per share. The current market
You own a callable, convertible bond with a conversion ratio of 500.The equity is currently selling for £22 per share. The issuer of the bond has announced a call at a call price of 105 on a face
General Modems has 5-year warrants that currently trade in the open market. Each warrant gives its owner the right to purchase one share of equity for an exercise price of £35.(a) Suppose the equity
Trichet SA has just issued a 30-year callable, convertible bond with a coupon rate of 7 per cent annual coupon payments. The bond has a conversion price of €125.The company’s equity is selling
Rob Stevens is the chief executive officer of Isner Construction plc and owns 500,000 shares. The company currently has 4 million shares and convertible bonds with a face value of £20 million
Survivor NV, an all-equity firm, has three shares outstanding. Yesterday, the firm’s assets consisted of 5 ounces of platinum, currently worth €1,000 per ounce. Today, the company issued Ms Wu a
The capital structure of Ricketti Enterprises plc consists of 10 million shares of equity and 1 million warrants. Each warrant gives its owner the right to purchase one share of equity for an
You have been hired to value a new 25-year callable, convertible bond. The bond has a 6.80 per cent coupon rate, payable annually. The conversion price is £150, and the equity currently sells for
Superior Clamps AB has a capital structure consisting of 4 million shares of equity and 500,000 warrants. Each warrant gives its owner the right to purchase one share of newly issued equity for an
Omega Airline’s capital structure consists of 1.5 million shares of equity and zero coupon bonds with a face value of $10 million that mature in 6 months. The firm just announced that it will issue
1 You have been hired to value a new 10-year callable, convertible bond. The bond has a 5.6 per cent coupon rate, payable annually. The conversion price is £150, and the equity currently sells for
Kartner Meister was recently hired by S&S Air AB to assist the company with its short-term financial planning and to evaluate the company’s performance. Kartner graduated from university 5 years
Discuss the differences between hedging and speculation with derivatives. Many corporations’ risk management divisions earn significant profits each year. What does this say about derivative use in
Explain what is meant by a forward contract. Use a non-financial example to illustrate how a forward contract works. What are the advantages and disadvantages of forward contracts?
What is a futures contract? What are the advantages and disadvantages of futures contracts?
Explain how interest rates can be hedged by futures contracts. Provide an example of how you could use one to hedge against an increase in interest rates.
What is duration and how can it be used to hedge against interest rate changes? Use an example to illustrate your answer.
Using Table 25.10, discuss the main concerns of corporations when using derivatives to manage risk.Table 25.10 Australia Germany United Kingdom United States United States and Canada Europe Asia &
Provide an overview of the empirical determinants of hedging. If you were the corporate treasurer for a company, would you recommend hedging as a risk management strategy? Explain.
If a firm is buying futures contracts on lumber as a hedging strategy, what must be true about the firm’s exposure to lumber prices? What if a firm is writing call options on cocoa futures as a
What are the three strategies a firm has at its disposal to deal with currency risk? What are the advantages and disadvantages of each? Explain.
Vestas Wind Systems A/S, the Danish wind energy company, would like to consider hedging the risk of its operations. What are the main risks the company faces and how would it hedge these risks?
Suppose a firm enters a fixed for floating interest rate swap with a swap dealer.Using an example and a diagram, illustrate the cash flows that will occur as a result of the swap. Why would a swap be
If a Dutch company exports its goods to the UK, how would it use a futures contract on sterling to hedge its exchange rate risk? Would it buy or sell sterling futures? Does the way the exchange rate
You are the finance director of a British company which is expecting a payment in euros of €200 million at the end of September and wish to hedge against currency risk. However, the nearest
Syco SA, a distributor of food and food-related products, has announced it has signed an interest rate swap. The interest rate swap effectively converts the company’s€100 million, 4.6 per cent
Consider two firms, Larss plc and Sousa plc. Larss plc has a better credit rating and can borrow cheaper than Sousa plc in both fixed and floating rate markets.Specifically, Larss pays 6.35 per cent
Suntharee Lhaopadchan is a Thai student who is planning a one-year stay in the United Kingdom. She expects to arrive in the United Kingdom in 8 months. She is worried about depreciation in the Thai
Suppose you sell five May 2015 gold futures contracts on 16 April 2015, at the last price of the day at $1,648.6 per ounce. What will your profit or loss be if gold prices turn out to be $1,500 per
Suppose a financial manager buys call options on 35,000 barrels of oil with the same exercise price of £120 per barrel. She simultaneously sells a put option on 35,000 barrels of oil with the same
You are long 10 gold futures contracts, established at an initial settle price of €1,000 per ounce, where each contract represents 100 ounces. Over the subsequent four trading days, gold settles at
Rock Spring plc decides it wants to borrow capital for a 6-month period in two 3-month instalments. The company can borrow at LIBOR + 2 per cent. LIBOR rates today are 4 per cent. However, because
What is the duration of a bond with 4 years to maturity and a coupon of 9 per cent paid annually if the bond sells at par?
Pillow Private Bank has the following market value balance sheet:(a) What is the duration of the assets?(b) What is the duration of the liabilities?(c) Is the bank immune from interest rate risk?
Suppose today is 16 April 2015, and your firm produces chocolate and needs 75,000 tonnes of cocoa in July 2015 for an upcoming promotion. You would like to lock in your costs today because you are
ABC Company and XYZ Company need to raise funds to pay for capital improvements at their manufacturing plants. ABC Company is a well-established firm with an excellent credit rating in the debt
Per and Birthe Clausen have a son who will begin university 3 years from today.Expenses of €30,000 will need to be paid at the beginning of each of the 4 years that their son plans to attend
What is the duration of a bond with 2 years to maturity if the bond has a coupon rate of 8 per cent paid semi-annually, and the market interest rate is 7 per cent?
The forward price (F) of a contract on an asset with neither carrying costs nor convenience yield is the current spot price of the asset (S0) multiplied by 1 plus the appropriate interest rate
You enter into a forward contract to buy a 10-year, zero coupon bond that will be issued in one year. The face value of the bond is £100,000, and the 1-year and 11-year spot interest rates are 5 per
This morning you agreed to buy a 1-year Treasury bond in 6 months. The bond has a face value of £100,000. Use the spot interest rates listed here to answer the following questions:(a) What is the
Malaika plc, a British company, is planning to make a payment in euros of €150 million at the end of September. However, the nearest maturity date for a euro futures contract is at 13 December and
Jennifer McAfee recently received her university Master’s degree and has decided to enter the mortgage brokerage business. Rather than work for someone else, she has decided to open her own shop.
What is short-term financial planning? Why is short-term financial planning crucial to a company? Provide an example of a company that has either undergone an insolvency event or is in financial
Review the different ways in which cash can increase or decrease in a firm. Use the accounting equation to support your answer. What are some of the characteristics of a firm with a long operating
Which of the following companies are likely to have high short-term financing needs? Why?(a) The Hilton.(b) British Gas.(c) Manchester United.(d) Thomas Cook.(e) Private Infrastructure Development
Your friend has recently started up a new ice-cream shop business, but he is worried about the seasonality of cash flows his business will face, because the demand for ice cream will most likely be
Give an overview of different working capital financing strategies.What are the advantages and disadvantages of each?
Explain what is meant by cash budgeting. Review the various ways a firm can finance a short-term cash deficit and the various financing policies to manage current assets.
For the year ending 2015, you have gathered the following information about Rock Spring plc:(a) The company undertook a £200 million share buyback programme.(b) £300 million was invested in
A bank has recently installed a new embedded mobile phone payment system for rural communities. Describe the effect this is likely to have on the company’s short-term financial management.
You have just been appointed as financial manager of a food processing and manufacturing firm. The production engineer has said that the cash cycle of your firm should always be longer than its
Assume you work for Evraz plc, the coal and iron ore miner. What would be the costs of shortages in such a firm? Explain using examples.

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